MegaFon is interested in expanding in the country and would
consider parts of Tele2 if they are offered, Ivan Streshinskiy,
MegaFon director and head of USM Advisors LLC, which manages
Usmanov’s assets, said in an interview at Bloomberg headquarters
in New York this week.

“Tele2 positions itself as a discounter and fully
combining it with MegaFon could potentially destroy this
competitive advantage without adding customers for MegaFon,”
Streshinskiy said. For a deal to add value for MegaFon
shareholders, it could be carried out with other operators, he
said, declining to elaborate.

Sweden’s Tele2, which failed to win a fourth-generation
license in Russia in July to offer faster data services, has
been looking into selling its unit in the country or forming an
alliance with local competitors, RBC Daily and Kommersant have
reported. OAO Mobile TeleSystems and Rostelecom confirmed their
potential interest to Tele2. Pernilla Oldmark, a Tele2
spokeswoman, declined to comment.

Tele2 Russia may be worth 4.5 times its earnings before
interest, taxes, depreciation and amortization, said Anna
Kurbatova, an analyst at BCS Financial Group. Based on nine-
month figures, that implies a value of at least $3.1 billion.

‘Governance Problems’

Russia’s government, which owns about 53 percent in
Rostelecom, may sell shares in the former fixed-line monopoly in
2014, the Economy Ministry said in June.

“I can’t think of any reasonable private investor who will
agree to buy Rostelecom in its current shape with a $6.5 billion
debt burden and corporate governance problems,” Streshinskiy
said. “They need proper management as the current one is
affiliated with one private shareholder,” he said, referring to
Marshall Capital, which owns a stake of about 10 percent.

Rostelecom lost its focus on broadband Internet and built
debt trying to expand into mobile business and overpaying for
pay-TV assets, Streshinskiy said, echoing criticism of the
company in October by Telecommunications Minister Nikolay
Nikiforov.

Rostelecom Network

Rostelecom is expanding its mobile and pay-TV operations to
compensate for a decline in the fixed-line business, the company
said in an e-mailed statement, adding that other operators are
doing the same. The company follows the best standards of
corporate governance and its decisions are approved by the board
of directors, it said.

Prime Minister Dmitry Medvedev’s government has been trying
to replace Rostelecom Chief Executive Officer Alexander Provotorov since October, according to Kommersant.

Three years ago, the government weighed a potential merger
of Rostelecom with MegaFon, which “could have created a so-
called ‘national champion’ in telecommunications with dominant
positions in both fixed-line and mobile businesses,” said BCS’s
Kurbatova. “I doubt this is still on the agenda.”

Network Coverage

Rostelecom has said that its business would most complement
that of Tele2, partly because neither of their networks cover
all of Russia. Rostelecom Senior Vice President Pavel Zaitsev
denied talks with Tele2 earlier this week, telling reporters
there is no mutually beneficial plan for a potential tie-up.

The press office at the Russian unit of mobile operator
VimpelCom Ltd. (VIP) declined to comment on whether the company is
interested in Tele2 assets. MegaFon and VimpelCom jointly own
handset retailer Euroset Holding NV.

Russia has three country-wide mobile operators. Billionaire
Vladimir Evtushenkov’s MTS was the biggest with 70.7 million
users at the end of the third quarter, Usmanov’s MegaFon, which
raised $1.7 billion in a London IPO last month, was second with
62.8 million and billionaire Mikhail Fridman’s VimpelCom was
third with 56.2 million, according to Moscow researcher AC&M
Consulting.

Tele2 and Rostelecom are lagging behind and have mobile
coverage only in less than half of the country’s regions. Tele2,
which provides services on a second-generation network, had 22.3
million Russian users, while Rostelecom had 13.6 million.

Russia’s mobile market will grow about 5 percent this year
to $27.6 billion, with about 20 percent of this from non-voice
services, according to AC&M Consulting.